The Fourth Circuit Review: Miscellaneous

The Fourth Circuit Review: Miscellaneous

Article excerpt

MISCELLANEOUS

Section 2053 of the Internal Revenue Code, 26 U.S.C. sec 2053 (1988) (section 2053),(77) determines the expenditures that an administrator of a decedent's estate may deduct from the gross estate for federal estate tax purposes. Section 2053 states that the administrator may deduct from the gross estate all expenses qualifying as "administrative expenses." In Treasury Regulation section 20.2053-3, Treas. Reg. sec 20.2053-3 (as amended in 1979) (Regulation 20.2053-3), the Treasury Department stated its official position on section 2053, and interpreted "administrative expenses" as including expenditures for managing the estate or distributing value to the beneficiaries.

Despite the Treasury's interpretation of section 2053, the circuit courts are split over whether courts should apply the Regulation as federal law, or apply the law of the taxpayer's state to determine what qualifies as an "administrative expense" under section 2053.(78) The Supreme Court has yet to interpret section 2053, but the Court has stated that federal courts are not bound by state court determinations of property interests in cases where federal estate tax liability turns on the character of a property interest held and transferred by the decedent.(79) The federal courts, therefore, are free either to accept a state court's determination of an expenditure as an administrative expense, or to explore the issues de novo. Against this background, the Fourth Circuit decided in Estate of Love, 923 F.2d 335 (4th Cir. 1991), whether state or federal law should control the determination of deductibility.

In Love, the decedent, Margaret Love, died testate on March 22, 1983. During her lifetime, Ms. Love was involved in the business of breeding and racing thoroughbred horses. On January 6, 1983, Ms. Love entered into an agreement with an Irish breeder, Coolmore Stud, to breed one of her mares, located in France, with the breeder's stallion in Ireland. The agreement provided that each party would own a one-half interest in the resulting foal and would split the profits from the sale of the foal as a yearling. The agreement also provided that in the event of a "disaster" such as Ms. Love's death, her estate would buy Coolmore's share to enable the estate to sell the foal free of encumbrances. Fifteen days after the decedent's death, the mare became pregnant. In September of 1983, pursuant to the agreement between Ms. Love and Coolmore, Ms. Love's administrator paid Coolmore Stud $147,000, thereby extinguishing the foal sharing agreement and acquiring full ownership of the unborn foal. Ms. Love's will directed the administrator of her estate to liquidate her French operations, including the pregnant mare. Accordingly, the estate auctioned the pregnant mare in November of 1983 for $1,220,406.

In Love, the administrator of the estate claimed that although the obligation to purchase the one-half interest in the foal did not exist before the decedent's death because the mare was not yet pregnant, the court should allow $147,000 payment as a deduction for an administrative expense under section 2053(a)(2). Applying Maryland law, the Orphan's court for Baltimore County approved the deduction as an administrative expense. The Commissioner of Internal Revenue, however, disallowed the claimed deduction reasoning that purchase of the one-half interest in the foal was an improvement to the estate, not an administrative expense. To contest the Commissioner's decision, the administrator of the estate filed a petition in Tax Court seekirig a redetermination of the $48,886 deficiency in estate tax. The Tax Court agreed with the Commissioner reasoning that the $147,000 payment was taxable because it was an expenditure for an improvement in the estate, not an expense required for administration. The Administrator then appealed to the Fourth Circuit.

The Fourth Circuit first addressed whether state or federal law controls the determination of an administrative expense under section 2053(a)(2). …